OF RATES CUTS AND THE CRISIS

The Philippine Star
04/20/09

In the coming months, local banks – already teeming with cash nowadays – may find themselves facing a new challenge: how to deploy the huge amount of liquidity that has effectively been injected by the Bangko Sentral ng Pilipinas (BSP) into the economy through a series of cuts in its key interest rates since last December.

The BSP's latest rate cut of 25 basis points on April 16 has brought down its key rates by a total of 1.5 percentage points from levels seen before its rate-cutting spree started four months ago. The intention is to make more funds available for lending to companies, including small and medium business enterprises, and to consumers.

Rates at lowest levels

Four rate cuts have so far been delivered, bringing the rates to 17-year lows, even if these are not yet urgently needed despite signs of an intensifying global financial crisis. In a recent speech at the annual general membership meeting of the Australian-New Zealand Chamber of Commerce Philippines, BSP Gov. Amando Tetangco said the central bank had decided to implement several measures to boost liquidity in October last year, at the height of the uncertainty surrounding the crisis.

At that time, we were witnessing the freezing of credit markets in major economies. Thus, even if the Bangko Sentral was aware there was ample liquidity in the system then, Tetangco said preemptive steps had to be implemented to avert a similar situation developing in the domestic economy.

For productive use

Since then, the BSP has allowed liquidity to grow faster than it would normally tolerate as these funds, according to Tetangco, are being used in productive sectors. According to the central bank, it would normally take at least 12 months for monetary policy actions to filter into the economy but it believes its recent easing measures are already being felt.

Between December and March, some P500 billion in additional liquidity had entered the financial system after the BSP rate cuts. The estimate does not include the impact of the latest rate reduction which, according to some analysts, may not be the last this year.

The question now is whether banks are really making those funds available for lending to the private sector. Are they now willing to take more risks and extend loans even if the latest assessment from no less than the International Monetary Funds points to a further deterioration of conditions in the world economy?

The IMF warned in its World Economic Outlook released recently that the current global recession would likely be "unusually long and severe, and the recovery sluggish," and that emerging economies have strongly been feeling the pinch.

“Open” lending windows merely lip-service

Some of the country's big banks say they are keeping their lending windows open despite the crisis. But it's easier said than done, and we believe all of them remain cautious and continue to be selective in extending loans in such an uncertain environment.

Debt watcher Fitch Ratings said in a recent report that despite the aggressive monetary policy-easing moves in the Asia-Pacific region, borrowing costs remained elevated and were unlikely to go down amid the economic downturn.

Given the profit squeeze, banks are probably unwilling to lend to minimize risk and to stay liquid and solvent. Or they may be charging high rates to those they are still willing to lend to in order to boost earnings at a time many people are cutting costs and wanting to climb out of debt.

But keeping credit costs high is also a risky strategy as it could result in more loans turning sour if economic conditions worsen. And the "substantial" pressure on loan quality, Fitch warned, may put downward pressure on banks' credit ratings.

At an economic briefing last month for members of the Management Association of the Philippines, Tetangco said risk aversion and poor market confidence amid the worsening economic outlook have resulted in higher probability of loan defaults. This, he said, creates the impetus for tighter credit standards by financial institutions.

Thus, Tetangco is hoping that the BSP's move to continue lowering policy rates will help restore investor confidence, eventually bring down the cost of borrowing, and promote wider access to domestic lending.

Of course, the BSP can only apply moral suasion and pray that banks will be more aggressive in lending.

Encouraging spending

In the meantime, what will the banks do with the excess liquidity if they maintain their selective lending stance?

Well, the government has again lifted the ceiling for the budget deficit this year to P199.2 billion from the previous target of P177.2 billion for 2009, which means more spending – and borrowings from the domestic market.

More corporate bond issuances are also in pipeline which can be accommodated by the strongly liquid system.

The April 16 rate cut may not be the last in the current easing cycle, according to economists. The BSP itself believes it still has scope to cut rates and may even employ other policy tools to further boost liquidity should economic conditions worsen.

With the government also pouring hundreds of billions of pesos into the economy with its economic resiliency plan, this only means we can expect the system to remain flush with cash in the coming months.

Waiting and hoping game

Putting in mind that, at a certain point in time, excess liquidity may eventually do more harm than good to the economy, the central bank realizes this instance when it will have to stop injecting more liquidity into the economy.

But since we are in the early days of the crisis, and it may be too early for talk about the need to unwind when the economy has yet to start recovering while inflation continues to cool, it is becoming a waiting – and hoping game.

Like the fisherman who has cast his rod in the ocean, the central bank’s option is just to sit back and wait – and hope that not only the big fish but also the small fish bite the bait – and before the big storm forces it to resort of other measures.

Should you wish to share any insights, write me at Link Edge, 25th Floor, 139 Corporate Center, Valero Street, SalcedoVillage, 1227 MakatiCity. Or e-mail me at reydgamboa@yahoo.com. For a compilation of previous articles, visit www.BizlinksPhilippines.net.